Asset Management Intelligence - Q1 2016 - Alternative Investment Industry Outlook for Q1 and Beyond in 2016

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2015 will go down as one of the worst years on record for the hedge fund industry, with a handful of the biggest names to experience their first-ever negative year and prompting mass investor redemptions and firms to shut down. Both allocators and managers looking ahead to 2016 are concerned about the liquidity problem due to uncertainty around the Federal Reserve's interest rate hike along with worries about China's economy.  Hence, many investors are anticipated to rotate out of the larger managers – all crowded in the same positions – into smaller and medium-sized managers who are more nimble and therefore better able to navigate the choppy marketers. On the strategy front, mean-reversion strategies are expected to shine, including global macro managers and CTAs with their ability to capitalize on the volatility. On the other hand, managers slated to struggle include those investing in some of the emerging markets countries, particularly China, along with distressed debt offerings since the pool of money trying to take advantage of those investments will be too big.

Additionally, non-investment trends anticipated for 2016 – such as long/short equity hedge fund strategies – will be the most popular new launches, although new offerings in the private equity and credit space will debut with the most money. Asset raising will still be challenging as institutional investors, pensions in particular, consolidate their number of underlying managers. Finally, the debate on fee reduction will continue.

Investor Debate: Small vs. Large Managers

Investors in general are slated to pay more attention this year to smaller-to-medium-sized managers, independent of their strategy given their ability to be nimble and navigate the volatile markets better than the larger funds.

"If you look at the top 20-to-25 funds, a lot of them didn't do well," said Robert Discolo, Executive Vice President, Permal Group. "They struggled since a lot of them had the same trades on and same ideas."

However, some of the biggest investors, pensions in particular, will continue to prefer managers with over $1 billion in assets under management.

Strategy Outlook

On the heels of volatility, mean-reversion strategies are expected to shine, including global macro and CTAs.

"Allocators are going to be looking for strategies that are mean-reverting in nature, much different than what we have seen over the last 6-7 years where beta was really the way to make money," said Michael Beattie, Chief Investment Officer, Tradex Global Advisors, a Connecticut-based alternative asset manager.  "I think smart beta and negatively correlated hedge funds are going to be in favor for what institutions need to survive."

On the other hand, the general consensus is distressed debt managers will face challenges since the pool of money pursing the same opportunity sets will be too large. Additionally, portfolios exposed to some of the emerging markets countries will get hurt, especially those connected to China because of its economic growth slowdown.  

Non-Investment Trends

Fund Launch Activity

Long/short equity hedge funds have been and are expected to continue to be the most popular strategy to launch, although their launch size will be a lot smaller than the new offerings in private equity and credit: $30 million to $50 million on average vs. $100 million.

"Although there has been a great deal of volatility in the equity markets, long/short equity is still the most popular strategy that is attempting to launch," said EisnerAmper's Financial Services Group." The recent volatility may cause some of these firms to rethink their plans due to their investors wanting to de-risk."

Of the new launch candidates that EisnerAmper's Financial Services Group has met since September, the majority of them (60%) have been long/short equity managers, followed by funds of hedge funds (8.89%) and finally, credit (6.67%).

Fundraising Challenges/Fee Debate

Finally, funds are going to run into more barriers raising money this year as investors, pensions especially, consolidate their number of underlying managers; and the debate on fee reduction will continue. The best-performing managers won't lower their fees and despite investors' most favored nation clauses in place, which deter funds from dropping their terms, there will be ways funds can circumvent this and reduce them if they create different structures outside the LP structure for allocators such as separately managed accounts.

Asset Management Intelligence - Q1 2016

• Taxes: Looking Back, Looking Ahead
• The Common Reporting Standard
• Enforcement Actions by the SEC – Cases from 2015 Provide Guidance for Private Fund Advisers
• Reminder: New ASU 2014-11 Disclosures Effective for Calendar Year End 2015 Funds with Repo Lending Accounted for as a Secured Borrowing (ASU 2014-11)
• Alternative Investment Industry Outlook for Q1 and Beyond in 2016
• Compliance and Regulatory Services ("CARS") Hot Topics for January 2016